The Levy Institute’s annual Minsky conference will be held at the National Press Club in Washington, D.C. on April 9-10.
Day one features a speaker lineup that includes Sen. Sherrod Brown, Rep. Carolyn Maloney, head of the Chicago Fed Charles Evans, member of the Fed Board of Governors Daniel Tarullo, and many others. On day two, Jason Furman, Chair of President Obama’s Council of Economic Advisers (and recently featured in this Washington Post profile), asks “Is the Great Moderation Coming Back?”
Dissatisfaction with the incomplete or timid nature of the 2010 Dodd-Frank financial reforms has generated interest in some alternative regulatory proposals. One alternative that’s fairly prominent in progressive circles revolves around the idea of returning to the structure of the 1933 Glass-Steagall Act.
In this video, Jan Kregel explains why we can’t go back. He argues that recent proposals to revive Glass-Steagall are based on a misunderstanding of what banks do and how they make their money.
You can find this video and others at the Levy Institute’s new YouTube page (videos of speeches and panel discussions from two recent Levy Institute Minsky conferences, in Rio and Athens, will be made available. More to come).
The Levy Institute’s Jan Kregel and L. Randall Wray took part in a workshop at the UK House of Commons, November 25th, on “Financial Governance for Innovation and Social Inclusion,” organized by Mariana Mazzucato (SPRU) and Leonardo Burlamaqui (Ford Foundation) and hosted by Shadow Minister for the Cabinet Office, MP Chi Onwurah. Kregel and Wray’s presentations follow:
The rest of the speeches from day 1 can be found here.
A new issue of Accounting, Economics and Law has published a series of articles (open access) on Minsky and banking. In addition to my contribution, you can find some nice pieces by Thorvald Moe, Yuri Bondi, and Robert Boyer.
According to Minsky, “A capitalist economy can be described by a set of interrelated balance sheets and income statements”. The assets on a balance sheet are either financial or real, held to yield income or to be sold or pledged. The liabilities represent a prior commitment to make payments on demand, on a specified date, or when some contingency occurs. Assets and liabilities are denominated in the money of account, and the excess of the value of assets over the value of liabilities is counted as nominal net worth. All economic units – households, firms, financial institutions, governments – take positions in assets by issuing liabilities, with margins of safety maintained for protection. One margin of safety is the excess of income expected to be generated by ownership of assets over the payment commitments entailed in the liabilities. Another is net worth – for a given expected income stream, the greater the value of assets relative to liabilities, the greater the margin of safety. And still another is the liquidity of the position: if assets can be sold quickly or pledged as collateral in a loan, the margin of safety is bigger. Of course, in the aggregate all financial assets and liabilities net to zero, with only real assets representing aggregate net worth. These three types of margins of safety are individually important, and are complements not substitutes.
If the time duration of assets exceeds that of liabilities for any unit, then positions must be continually refinanced. This requires “the normal functioning of various markets, including dependable fall-back markets in case the usual refinancing channels break down or become ‘too’ expensive”. If disruption occurs, economic units that require continual access to refinancing will try to “make position” by “selling out position” – selling assets to meet cash commitments. Since financial assets and liabilities net to zero, the dynamic of a generalized sell-off is to drive asset prices towards zero, what Irving Fisher called a debt deflation process. (To some extent, this can be called a liquidity problem – but it is really more than that. I’ll return to this later.) Specialist financial institutions can try to protect markets by standing ready to purchase or lend against assets, preventing prices from falling. However, they will be overwhelmed by a contagion, thus, will close up shop and refuse to provide finance. For this reason, central bank interventions are required to protect at least some financial institutions by temporarily providing finance through lender of last resort facilities. As the creator of the high-powered money, only the government – central bank plus treasury – can purchase or lend against assets without limit, providing an infinitely elastic supply of high-powered money.
These are general statements applicable to all kinds of economic units. continue reading…
As is well known, Hyman Minsky was a student of Joseph Schumpeter’s at Harvard. Minsky’s “stages” theory of capitalist development, fleshed out during the later part of his life while he was here at the Levy Institute, arguably owes something to the influence of his former dissertation adviser. There’s a short paper in the archive from 1992, “Schumpeter and Finance” (pdf), in which Minsky presents a tight, clear summary of his vision of the evolution of capitalism and finance, right up to the present-day stage of “money manager capitalism.”
You should read it for that reason alone (especially if your acquaintance with Minsky’s work extends only to his “financial instability hypothesis”), but it also contains a short passage that deserves to be quoted on its own, in which Minsky, in the context of a reminiscence of his teacher (“We talked about important things as well as about economics”), insists on the need to approach economics as the study of an “evolutionary beast”:
“In 1948–49 the representative graduate student considered Schumpeter to be passé. Paying attention to him, joining him in his study was evidence of a lack of fundamental seriousness, of dilettantism. Given the command of mathematics that economists of that time possessed, Schumpeter’s model was not tractable. As a result his vision was ignored by the candidates striving to be mathematical economists and econometricians.
The events of our time, especially but not exclusively the break-up of the Soviet ministerial model of socialism, vindicates the Schumpeter vision of economies as evolving systems, systems that exist in history and change in response to endogenous factors. (Schumpeter acknowledged that this vision owes much to Marx.) This message, that societies are evolutionary beasts which cannot be frozen in time and reduced to static mathematical formulations, was never more relevant that it is today. No doctrine, no vision that reduces economics to the study of equilibrium seeking and sustaining systems can have a long-lasting relevance. The message of Schumpeter is that history does not lead to an end of history.”
From part four of Mariana Mazzucato’s “Rethinking the State” series, Riccardo Bellofiore discusses Hyman Minsky’s Schumpeterian spin on the “socialization of investment”:
In a new One-Pager, Nicola Matthews sums up some of the findings from her analysis of the activities of the Federal Reserve’s special lending facilities set up during the last financial crisis. She contends that the Fed departed from a classical understanding of what central banks should do in liquidity crises but focuses in particular on the lending rates.
“[E]xamination of the data shows that most of the Fed’s emergency facilities lent at rates that were, on average, at or below (sometimes well below) market rates, with the big banks the primary beneficiaries,” she writes. Matthews notes that the top eight individual borrowers paid a combined weighted mean interest rate of 1.49 percent. The lowest rates went to Morgan Stanley and Goldman Sachs in December 2008, at 0.01 percent (on $50 million and $200 million, respectively).
These emergency facilities were also engaged in lending for sustained periods of time: excluding ST OMO and the support given to Bear Stearns and AIG, the average length of the lending facilities was 22 months. Matthews notes that these extended durations suggest that many of the banks receiving support may have been insolvent, rather than merely illiquid.
“So what?” you might ask. This was an extraordinary crisis, and it demanded an extraordinary response. Matthews argues that while Fed intervention was needed, the particular approach it took to its lender-of-last-resort function — “without penalty rates, without good collateral, or for sustained periods of time” — has perpetuated dangerous dynamics within the financial system: “Lending at or below market rates, allowing banks to negotiate these rates through auctions, and rescuing insolvent banks has not only validated unstable banking instruments and practices but also possibly set the stage for an even greater crisis.”
Read it here (pdf). This One-Pager draws from a working paper (pdf) that contains a detailed breakdown of the rates, durations, and recipients of each emergency facility’s loans.
I was recently asked by an interviewer who’s going to replace Chairman Bernanke. I declined to predict because I don’t do horseraces. You’d have to be inside the beltway to understand which way President Obama is leaning. There’s not much doubt that Wall Street is pulling for one of its own, Larry Summers, and Wall Street usually gets what it wants.
Let me turn to what we should want in a central banker, rather than trying to pick the winner of the contest. To understand the qualities desired, we need to know what central bankers should be able to do. There is a lot of misconception over the role played by the Fed in our economy.
The power of the central bank is substantially less than usually imagined, or at least what influence it has is not in the areas usually identified. It has little direct impact on inflation, unemployment, economic growth, or exchange rates. It does set the overnight interest rate, but there is no plausible theory nor evidence that this matters very much. The “interest rate channel” is weak — normally the Fed is raising rates in a boom, when everyone is enthusiastically borrowing and spending, so higher rates do not diminish optimism. In a slump, when the Fed normally lowers rates, it is too late — pessimism has already taken hold.
The way that raising rates actually can work is by causing insolvency of those already heavily indebted — by pushing payments on floating rate debt above what can be afforded. There is no smooth relation between borrowing and interest rates that can be exploited by policymakers. Rather, they can cause a financial crisis if they are willing to do a “Volcker”: push rates so high that defaults snowball through the economy.
Over the past three decades, where the Chairman’s influence has been significant has been in the area of regulation and supervision of the financial sector. Unfortunately, three successive Chairmen have failed to pursue the public interest preferring instead to promote Wall Street’s interest. This has been disastrous. continue reading…
L. Randall Wray and Mariana Mazzucato explain some of the motivation behind their joint project that brings together the insights of Schumpeter and Minsky (note that Schumpeter was Minsky’s dissertation adviser) to explore the relationship between finance and innovation, the changing nature of each, and how the financial system might be restructured to better support the capital development of the economy — by contrast with a system that seems to revolve around financial innovation (the focus of Minsky’s earliest work) for the sake of speculation.
Remember last summer? The London Whale, that blockbuster adventure thriller, triggered one chill after another as the high-risk action at JPMorgan Chase was revealed. Today, the threats posed by megabanks remain just below the surface — no crisis at the moment — but they’re equally dangerous. A major sequel this year cannot be ruled out.
Dodd-Frank, the law designed to reform the financial system, had already been on the books for two years when JPMorgan’s troubles surfaced. In an effort to figure out how it failed to prevent massive losses by one of the world’s largest banks, a Senate subcommittee investigated. This spring, it issued its report on the outsize positions taken by the bank’s Chief Investment Office (CIO) — with a lead trader known as ‘the London Whale’ — and the department’s subsequent six billion dollar crash.
The committee detailed a list of concealed high-risk activities, and determined that the CIO’s so-called ‘hedging’ activities were really just disguised propriety trading, that is, volatile, high-profit trades on behalf of the bank itself, rather than on behalf of its customers in return for commissions.
Levy Economics Institute Senior Scholar Jan Kregel has taken these conclusions a step further, after analyzing the evidence. In a new research paper he makes the case that the primary cause of the bank’s difficulties was not that it engaged in proprietary trading: It was the concealment of this activity through the creation of a ‘shadow bank’, with the express purpose of this hardly-visible bank-within-the-bank being to create profits. What began as a unit to hedge risks — a safeguard — no longer served that purpose. He argues that when megabanks operate across all aspects of finance, this expansion of propriety trading becomes inevitable.
The solution, Kregel says, is not to prevent hedging, but rather to recognize that it can never be consistently profitable. continue reading…
ShareThis